The 'usual terms' that left Labour in a 'mind-blowing' mess

Flying above the Darfur mountains at 35,000ft on Sunday lunchtime, the broad consensus among Team Brown was that there was little of note in the Sunday newspapers. "A lot of bad polls and the usual 'worst week ever' commentary" was the summary of one Brownite returning to London from a largely inconsequential Commonwealth summit in Uganda.

The focus instead was on the speech that Brown planned to give to the CBI on the long-term challenges, especially welfare reform, all part of a low-key effort to get the government back on track in the wake of losing the personal details of 25 million British people in the post. A press conference in Downing Street was also put into the planning grid for Tuesday.

The Mail on Sunday story revealing that three relatively poor north-easterners had been some of Labour's biggest donors looked - at least from high altitude on Sunday - closer to the bizarre than the lethal. Yet within 24 hours Brown found himself sucked into a vortex that has seen his respected party general secretary Peter Watt quit, his fundraiser Jon Mendelsohn brought to the brink, and the return of Scotland Yard to the doors of No 10 for a second time in 12 months.

By Monday lunchtime, senior members of the national executive were grilling Watt at party headquarters on what he knew of these characters. Watt, widely respected for cleaning up the party's finances, owned up. He revealed he had known about the arrangement whereby David Abrahams used three proxies to pour the money into the Labour party - as much as much as £600,000.

Those senior national executive officials that interviewed him said he told them he had known of the arrangement for a year. Abrahams apparently described it as "the usual terms".

Watt was said to be "kicking himself" that he had not seen that it was in breach of the Political Parties Act to allow a donor to use an agent or conduit to fund a political party without the information being disclosed. Since the act is largely about ensuring that the true identity of donors is disclosed, his ignorance "was as inexplicable as it was inexcusable", said one Labour NEC official present.

One despairing NEC officer said: "After all we had been through with cash for honours, I thought the one thing we had sorted out was compliance with the law. Peter just kept saying he did not realise."

Yet in July 2006 an email was sent to key figures in all the political parties, including Watt, attaching a draft of the Electoral Commission's guidance on donations, stating: "If the original source of the donation is someone other than the individual or organisation that transfers the donation to the party, the individual or organisation making the transfer is acting as an agent for the original donor. Where a person acts as an agent in making a donation, they must ensure that the party is given all the relevant information as listed at paragraph 5.4 (s. 54 (6)). Transferring a donation to an agent rather than directly to a party must not be used as an attempt to evade the controls on permissibility and transparency." The treasurer's handbook is even more explicit.

It was this kind of information that so infuriated, and frustrated figures such as Jack Straw, the original architect of the Electoral Commission legislation designed to ensure disclosure. He described the situation as "mind blowing", adding it was a matter of history that the Abrahams arrangement started under Tony Blair.

It led others to complain that the Labour party for too long had become an outpost of Downing Street and Blair, implying the then-prime minister may have been aware of the arrangement whereby Abrahams used conduits to fund the party. There is no evidence to support that and former Blairite officials at No 10 insist Blair did not know. They maintain he only knew about very big donations in the £250,000-plus range.

With Brown due to hold a press conference the following morning, and with no option to cancel the event, it was agreed Watt had to go. Brown was furious. His sense of morality is so strong, according to one of his ministerial allies, that he will not even buy a lottery ticket for fear he will be accused of corruption if he won.

Brown hinted at his anger at the press conference saying the Watt resignation "was a necessary first step". He also effectively put Watt, and possibly Abrahams and his proxies, in the dock by saying the law had been broken. Inside Labour, views differ as to whether Brown was right to go so hard on the whole issue at his press conference, announcing he was holding an inquiry involving a judge and a bishop. Some say it simply fed the media beast Others said his remarks invited a police inquiry, and it would have been better for him to call in the police direct.

Almost immediately the frantic search was on inside the party to discover how many other officials, or politicians knew of this arrangement. To Brown's alarm, he discovered his chief fundraiser, Jon Mendelsohn, knew of the arrangement a fact the party released at 11.57, three minutes before prime minister's questions on Wednesday, in an attempt to leave David Cameron flat-footed. Brown conspicuously failed to sack him.

Straw, in the course of a BBC interview yesterday hinted that one or two people knew inside the party, but No 10 says it still does not know the circle of knowledge. So far three party chairmen and two previous general secretaries have denied all knowledge. The current deputy general secretary, Chris Lennie, has also said he did not know.

The affair would have been damaging for No 10, but potentially not explosive, if Abrahams had not also become involved in seeking to fund the leadership and deputy leadership campaigns. Hilary Benn initially turned down his money, offered through an intermediary, after Lady Jay, knowledgeable about party funding rules, pointed out it was likely to be in breach of the law, and Abrahams may have been trying to back two candidates.

Around the same time, late May, Abrahams rang Chris Leslie, the personable and bright Brown campaign coordinator.According to the Leslie memory, Abrahams does not reveal he is seeking to fund the Brown campaign through a conduit. He merely says he knows someone who would like to provide funds and gives the name, phone number and address of Janet Kidd, not mentioning that this person is his business secretary. Leslie will tell the police and internal party inquiry that Kidd never disclosed she was a conduit, and merely sent the cheque following a brief conversation.

The cheque was torn up after two weeks after it was clear that no one in the Brown campaign had met Kidd, one of the Brown team's golden rules for not taking a donation. It is not known if Leslie ever mentioned to fellow Brown campaigners that Kidd's call had been preceded by one from Abrahams.

A month later when Harriet Harman starts trawling the internet and other campaigns for possible means of paying back her campaign debt, Leslie suggests she try Kidd. Leslie may have suggested Kidd in all innocence, but either way, Harman now must be feeling, if only she had never listened. But "if only" is the refrain running right through every rank of Labour this weekend.